Hindsight Bias and Outcome Bias in Judging Directors' Liability and The
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Received: 7 June 2020 | Revised: 12 September 2020 | Accepted: 18 October 2020 DOI: 10.1111/jasp.12722 ORIGINAL ARTICLE Hindsight bias and outcome bias in judging directors’ liability and the role of free will beliefs Niek Strohmaier1 | Helen Pluut1 | Kees van den Bos2 | Jan Adriaanse1 | Reinout Vriesendorp3 1Department of Business Studies, Leiden University, Leiden, the Netherlands Abstract 2Department of Psychology and School Following a corporate disaster such as bankruptcy, people in general and dam- of Law, Utrecht University, Utrecht, the aged parties, in particular, want to know what happened and whether the com- Netherlands 3Department of Company Law and pany's directors are to blame. The accurate assessment of directors’ liability can Department of Business Studies, Leiden be jeopardized by having to judge in hindsight with full knowledge of the adverse University, Leiden, the Netherlands outcome. The present study investigates whether professional legal investiga- Correspondence tors such as judges and lawyers are affected by hindsight bias and outcome Niek Strohmaier, Department of Business Studies, Leiden University, Steenschuur 25, bias when evaluating directors’ conduct in a bankruptcy case. Additionally, to 2311 ES Leiden, the Netherlands. advance our understanding of the mechanisms underlying these biases, we also Email: [email protected] examine whether free will beliefs can predict susceptibility to hindsight bias and outcome bias in this context. In two studies (total N = 1,729), we demonstrate that legal professionals tend to judge a director's actions more negatively and perceive bankruptcy as more foreseeable in hindsight than in foresight and that these effects are significantly stronger for those who endorse the notion that humans have free will. This contribution is particularly timely considering the many companies that are currently going bankrupt or are facing bankruptcy amidst the COVD-19 pandemic. 1 | INTRODUCTION 2001, the collapse of Lehman Brothers in 2008, and more recently the Volkswagen emissions scandal, the public (as well as the author- After a disastrous event, public outcry often follows over who is to ities) demanded thorough investigations and that those to blame blame. Think for example of the sinking of the MS Estonia cruise were held accountable. Also in less high-profile cases of business ferry in 1994, the Deepwater Horizon oil spill in the Gulf of Mexico failure do the local communities or creditors typically appeal for a in 2010, or the Ponte Marandi bridge collapse in Genoa (Italy) in thorough investigation into the causes of the event. In some juris- 2018, just to name a few. In such cases, people want to know what dictions, an investigation into the causes of a company's failure is caused the event and whether there is someone to blame and to even mandatory. be held legally liable for the consequences. In this regard, corporate In such investigations, attention often centers on the role of the “disasters” are not much different. After the Enron bankruptcy in company's directors to for example determine whether there has This is an open access article under the terms of the Creative Commons Attribution License, which permits use, distribution and reproduction in any medium, provided the original work is properly cited. © 2020 The Authors. Journal of Applied Social Psychology published by Wiley Periodicals LLC J Appl Soc Psychol. 2020;00:1–18. wileyonlinelibrary.com/journal/jasp | 1 2 | STROHMAIER et AL. been a breach of fiduciary duties, wrongful trading, or gross business investigating this relationship might help improve our understanding misjudgments.1 If such wrongful conduct is, indeed, proven, direc- of the drivers behind these biases. tors can be held liable for damages, and creditors thus (partly) re- claim their losses. Investigations into a director's conduct are normally carried out by professionals who have a legal or financial 1.1 | Hindsight bias in legal judgments background (or both), such as lawyers, trustees, insolvency practi- tioners, liquidators, or forensic accountants, possibly in conjunction The first empirical evidence for hindsight bias was provided by with an investigating judge/magistrate (in inquisitorial systems). Baruch Fischhoff who originally dubbed it as “creeping determin- It is imperative that these legal professionals assess a direc- ism”, pointing to the idea that once actualized, events appear as tors’ actions in relation to an adverse event in an objective and though they had to happen, given the seemingly logical and linear reliable manner. Accurate and unbiased assessments are import- causal chain leading up to the event's occurrence (Fischhoff, 1975; ant for general reasons such as predictability of the relevant leg- Fischhoff & Beyth, 1975; for reviews of the hindsight bias literature, islation (i.e., legal certainty) and resultant trust in legal systems, see Christensen-Szalanski & Willham, 1991; Guilbault et al., 2004; but also because being held liable for a company's downfall can Hawkins & Hastie, 1990; Roese & Vohs, 2012). Recent research have detrimental effects on a director's personal well-being has suggested that hindsight bias is not a unified concept and is (Jenkins et al., 2014; Kesteren et al., 2017; Ucbasaran et al., 2013). rather best regarded as an umbrella term for three separate, al- Additionally, from a professional point of view, reputations are at beit related, biases, each with different causal mechanisms (e.g., risk, and liability for all creditor claims on the bankrupt estate in Blank et al., 2008; Kelman et al., 1998; Nestler et al., 2010; Roese some cases far exceed insurance coverage and can, therefore, lead & Vohs, 2012). Specifically, hindsight bias can refer to (1) a distorted to dire financial circumstances in the private sphere. Hence, an ac- memory of previous events or judgments, (2) subjective beliefs of an curate assessment of a director's conduct in relation to an adverse event's inevitability (“it had to happen”), or (3) subjective beliefs of event is paramount. an event's foreseeability (“I knew it would happen”). For the law, the However, there is good reason to believe that the accurate most relevant component of hindsight bias is that in foreseeability assessment of a director's conduct and its relation to a corporate judgments. mishap can be jeopardized by the fact that such assessments are The causes of hindsight bias in perceived foreseeability can be made in hindsight when the investigators and legal decision mak- found in cognitive (i.e., sense-making), meta-cognitive (i.e., fluency ers are aware of the adverse outcome. Judgments made in hindsight in sense-making), and motivational processes (Roese & Vohs, 2012). are notoriously susceptible to hindsight bias, which is the phenom- In contrast to other cognitive biases that operate largely in an au- enon of perceiving past events as more foreseeable and/or inevi- tomatic and unconscious fashion, hindsight bias relies on an im- table than was realistically the case prior to the event's unfolding portant part in conscious deliberation and sense-making processes. (Fischhoff, 1975). Additionally, when judging in hindsight people Specifically, an event appears to have been more inevitable and fore- tend to let the consequences of a certain decision or action unjus- seeable when it is easier to make sense of (Blank & Nestler, 2007; tifiably affect their judgments regarding the quality of that action Hawkins & Hastie, 1990; Wilson & Gilbert, 2008) or when the causal or decision, such that these are perceived more negatively after a chain leading up to the event is easily identifiable and straightfor- negative outcome than after a positive outcome (i.e., outcome bias; ward (Trabasso & van den Broek, 1985; Wasserman et al., 1991; Baron & Hershey, 1988). As a result of hindsight bias and outcome Yopchick & Kim, 2012). Hindsight bias in perceived foreseeability bias, decisions made by a director that seemed reasonable at the can also result from meta-cognitive and motivational processes. time, might in case of a bad outcome (e.g., company going bankrupt) Specifically, when one reflects on how a certain course of events be perceived as negligent. might ultimately have turned out differently and one experiences That being said, it currently remains an open question whether difficulties conceiving such counterfactuals, this meta-cognitive ex- legal professionals who investigate and evaluate a director's conduct perience is used to infer that the actual outcome must have been the are, indeed, affected by hindsight bias and outcome bias. The current most likely one and that this outcome was, therefore, foreseeable paper's primary goal is to address this question, as we posit that pre- (Sanna & Schwarz, 2007). With regard to motivational processes, vious research on hindsight bias does not fully allow for extrapola- people who have a stronger need for control or closure are generally tion to the current context of directors’ liability cases. An additional, more motivated to perceive the world in a predictable and orderly more explorative goal of the current paper is to investigate the rela- fashion and are, therefore, likely to be motivated to retrospectively tionship between legal professionals’ beliefs regarding free will and judge events as having been foreseeable (Musch, 2003; Musch & their susceptibility to hindsight bias and outcome bias. We believe Wagner, 2007; Tykocinski, 2001). Evidence suggests that hindsight bias can manifest